Former credit rating agency officials said on Friday that the quest for market share fueled a drive for short-term profits, sacrificing credit quality in the process.
Eric Kolchinsky, who was in charge of the Moody's unit that rated subprime CDOs, or collateralized debt obligations, said that people "across the financial food chain, from the mortgage broker to the CDO banker, were compensated based on quantity rather than quality," according to testimony prepared for a Senate panel.
"The situation was no different at the rating agencies." Meanwhile, the head of Moody's said that the credit rating agency "is certainly not satisfied with the performance of our ratings during the unprecedented market downturn of the past two years."
"We, like many others, did not anticipate the unprecedented confluence of forces that drove the unusually poor performance of subprime mortgages in the past several years," Raymond McDaniel, chairman and chief executive of the agency, said in his prepared testimony before the Senate Permanent Subcommittee on Investigations.
The subcommittee is looking into the role of Moody's and Standard & Poor's, two of the three dominant credit rating agencies in the United States, in the 2007-2009 financial crisis.
The agencies' favorable ratings are widely blamed for fostering the U.S. housing bubble. Their abrupt and massive downgrades after housing prices stopped rising helped trigger the subprime mortgage calamity and subsequent financial crisis.
A former executive from Standard & Poor's said his previous firm also fell into the trap of pursuing profits and sacrificing quality. Frank Raiter, a former managing director at Standard & Poor's and head of the residential mortgage unit said "focus was directed at collecting market share and revenue data."
A report by the investigations subcommittee released on Thursday found that their failure to properly gauge the risks of structured finance products resulted from a host of factors, including undue influence by investment banks; flawed forecasting models, and inadequate resources.
The panel's probe also revealed e-mails in which credit rating agencies express misgivings about investment products like the one at the heart of a government lawsuit against Goldman Sachs .
One 2006 email even refers to a "flaw" in most Abacus trades. It was a particular Abacus product from 2007 that the Securities and Exchange Commission alleges was fraudulently represented by Goldman to investors.
Regarding the general focus of the hearing, an S&P spokesman said the firm learned from the crisis and has improved its business practices.
"S&P has a long tradition of analytical excellence and integrity. We have also learned some important lessons from the recent crisis and have made a number of significant enhancements to increase the transparency, governance, and quality of our ratings," the spokesman said in an e-mail.
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